David and Libby offer tips on how to stay on top of your savings. Source: Supplied

A CUT in official interest rates may stimulate the economy, but they also contract the returns earned by savers and independent retirees.

The lifestyle of those who depend on income from their investments is under pressure from falling rates and it's going to get worse.

Yes, the banks have been offering attractive savings rates to build local deposits so they can be less dependent on borrowing from overseas.

But when rates are generally falling, returns have to follow.

A qualified and experienced financial planner is your best friend in the current market.

Make sure you get proper advice about how to manage your investments.

But it's a time to look at all the options available to secure income returns while understanding the varying levels of capital security.

Annuities

Offered by life assurance companies and designed to provide an income for any term between one and 50 years.

You decide whether you want 100 per cent of your capital back at the end of the term, or half, or zero, or any amount in between. It all depends on the income needed.

Rates on offer are often comparable to term deposit accounts, but if you have $100,000 to invest and want an income of $15,000 a year for 10 years, this won't be possible through interest returns alone.

If you need a more substantial income, the annuity provider will have to structure your payments from a mix of interest and capital.

The income can be paid monthly, quarterly, half-yearly or annually.

A lifetime annuity (which guarantees an income for life) usually means handing over your capital forever.

The provider will offer a rate based on your life expectancy and pay a regular income made up of a mix of capital and some interest.

Live for longer than the average person and you'll do well by receiving more money than you would have earned otherwise.

But if you die before the company predicts, they keep your capital.

Also worth remembering is that annuity payments are tax-free for those over 60 using superannuation.

Many financial planners recommend annuities for at least a portion of retirement savings for those who don't want any stress about crazy stock markets and the fear of running out of cash.

Term deposits

Simple savings accounts offered by banks, building societies and credit unions that pay a fixed rate of interest for a given term of usually between one month and five years.

Rates are comparable to many annuities, but you can't access capital during the term, so you must live off only the interest.

If you need to withdraw any of the initial investment, you could lose all or part of the interest.

They are nice and easy to understand - although there are catches.

Nastiest of these is the practice of rolling over your money at the end of the term into another, same-length term deposit account, but usually at a far lower interest rate.

Unless you are on the ball and instruct the bank specifically not to roll over your cash, you will be trapped and have to pay an exit fee.

Corporate bonds

Have made a big comeback since the GFC because they are a good way for companies to raise capital without turning to the stock market.

Companies issue bonds that pay a fixed rate of return, say 10 in the dollar, but the bonds themselves are traded daily like shares.

If you buy a bond after issue when the price has fallen, the yield will be even higher.

Say a bond costs $1 and pays an annual return of 10. That's equivalent to a yield of 10 per cent. But if the price of the bond goes up to $1.10, the same 10 return becomes only 9.11 per cent (because 10 is 9.11 per cent of $1.10).

It means your capital is more at risk, but it can offer great opportunities too if you're prepared to take a little more risk.

Individual corporate bonds are therefore more risky than annuities or term deposits, but there are plenty of corporate bond funds out there from strong companies.

GETTING IT RIGHT

* Consult your adviser

* Rebalance rather than change strategy

* Take into account preferred timeframes

* Understand investment risk

* Look at the calculation

CALCULATIONS

KNOWING the calculation is more important than the rate itself.

"Minimum monthly balance" calculates interest on the lowest balance each month. For example, if your account drops to $400, your interest is calculated on this figure even if the balance gets up to $1000 during the same month.

"Daily balance" is better than the minimum monthly balance because it doesn't punish you for letting the balance drop. If the balance one day is $1000 and you withdraw $500 the next, interest is calculated on both days.

Where "frequency of interest payment" is concerned, the more frequent the better. If interest is paid monthly, you benefit more than if it is paid quarterly.

"Compound interest" is interest on interest and it can multiply returns.

"Nominal interest rate" is the basic rate, irrespective of when it's paid, and does not take into account the effects of inflation.

"Effective interest rate" is the nominal rate adjusted for the impact of compound interest.

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